Avoiding That Other Mistake of 1937

Pulling back on monetary policy would cancel out even the best stimulus bill.

For many historically minded liberals and progressives, stopping the mistakes of 1937 means preventing the president from going through with unnecessary, counter-productive, and economically dangerous fiscal cuts. Franklin Roosevelt tried to balance the budget in 1937-1938, which put the weak recovery back into a tailspin and created a second depression within the Great Depression.

Trying to keep President Obama and the current Congress from doing the same exact thing right now -- cutting the deficit when financial markets are begging us with low rates to increase the deficit by putting people to work doing useful things -- is a full-time job for liberals and progressives. But there's another mistake of 1937 that we shouldn't ignore, and that's the mistake of pulling back on monetary policy.

Gauti Eggertsson and others have argued that in addition to the fiscal contraction, a monetary contraction taken through several means in 1937 helped pushed the United States economy off a cliff. And right now there are three members of the Federal Reserve dissenting, because they believe monetary policy needs to be contracted sooner rather than later. This is the first time there have been three dissenters in two decades, and there are increasing political pressures on the Federal Reserve by conservatives and Republicans.

What is motivating these attacks on the right? There seem to be three overlapping approaches to criticizing monetary policy from conservatives. The first is the screeching cry of inflation hawks -- people who are fundamentally fighting the last wars of the 1970s. They are worried about every type of inflation -- your inflation, stagflation, hyperinflation -- except one: deflation. This kind of critic is like the proverbial person crying "Fire! Fire!" while the water is creeping into the sinking Noah's Ark.

The group consists of people who think our economy has dropped anchor because this is the right place to be. They look -- using increasingly complicated and implausible theoretical and empirical evidence -- for excuses on how regulations, President Obama, and structural limitations are causing unemployment to be as high as it is. These arguments usually are light on the numbers -- they involve gut feelings and dubious assumptions.

The second group is also big enough to contain conservatives who aren't interested in getting us back to full employment anytime soon, especially using any means necessary, with an important presidential election coming up. Cynical maybe, but so is politics these days.

The third group is made up of people who think monetary policy is fundamentally unsound and illegitimate. This is a further right, 19th century laissez-faire approach to the government, one an order of magnitude more conservative than people like Milton Friedman. Here, monetary policy is no longer about stabilizing prices, ensuring maximum employment and keeping the economy from overheating or stalling into free fall. Instead it's about deflation, wealth defense, the interests of rentiers and "job creators" above all else, and money as an emblem of natural order rather than a social creation designed to make the economy work.

These groups, though they conflict on important values and thoughts, are enough to push the debate further to the right than anyone would have imagined. And if they continue to succeed they can do major damage. Even if a dream package of deficit-financed infrastructure building went through, if monetary policy is contracted ahead of schedule it will instantly cancel out that stimulus.